Payroll Tax Exemptions for Family Members

Sole proprietors can benefit from certain tax breaks when they hire members of their family.

In the vast majority of cases, employers have to withhold and pay payroll taxes for their employees. But if you hire certain family members to work in your business, you won't have to pay some of these taxes.

Employing Family Members: Payroll Tax Exemptions

Payroll taxes are the state and federal taxes that you, as an employer, are required to withhold and pay on behalf of your employees. Payroll taxes include state and federal income taxes; Social Security and Medicare taxes, called FICA taxes; and federal unemployment taxes, or FUTA taxes.

The tax breaks for employing family members are limited. For starters, your business must be a sole proprietorship or a partnership owned by you and your spousenot a corporation.

In this situation, if you hire a family member under the age of 18, you need not withhold (and your family member doesn't owe) FICA taxes. Normally, employers have to pay an extra 7.65 percent in FICA taxes over and above the amount you pay for wages on behalf of their employees. So, if your child is working for you, you will save that additional 7.65 percent.

In addition, FUTA taxes do not need to be paid for your children under the age of 21, for your spouse, or for your parents who are working for you in your business.

This is a tax savings for both you and the family member. Not only do you save the amount of FICA and/or FUTA tax you would have to pay on behalf of an employee, you don't have to withhold your family member's portion of those taxes either. So your overall cost of employing them is less and their net pay is more.

Just remember that the family member needs to be performing a bona fide job in order to qualify for the tax breaks. If the IRS learns that your relative is earning a fortune compared to the amount of work actually performed, you could find yourself in hot water with the tax authorities.

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